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April 3, 2016

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Week Thoughts: Brief De-Coupling on Bottom Fishing

MLPs rallied most of the week, trading up with the broader market on dovish commentary from the Fed, even as oil prices continued to breakdown throughout the week.  Friday’s 4% oil price drop caught up with MLPs, which erased most of the week’s gains with a 2.7% decline.  But MLPs did finish March up 8.3% and closed out the week slightly higher (+0.6%) than last week.
With the S&P 500 trading up even on Friday, market pundits touted the de-coupling of stocks from oil prices.  A steep U.S. production decline in 2016 is now consensus. Investors seem to be gaining comfort with the U.S. energy market’s direction, even as OPEC remains a wild card.  The recipe for MLPs to de-couple oil prices seemed to be discovered early this week.  The MLP price action offers hope that if oil prices can breach $40/bbl and stay there, MLPs might be able to sustain a rally that would qualify as a de-coupling from oil prices.
Status Update
MLPs finished March +8.3%, the first positive month for the index since October 2015, and just the 4th positive month out of the last 19 months.  MLPs finished 1Q down 4.2%, extending the record streak of negative quarters to 6 for the MLP Index.
Monthly Status Update_3-31-16
Historically, April has been a strong month for MLP performance, with average returns for April since 1996 of 3.7%, the most of any month.  The first month of every quarter tends to be strong for MLPs as investors bid up MLPs in advance of quarterly distributions that tend to get paid in the second month each quarter.  MLPs have been positive in April for 11 straight years, the longest streak ever (and the only current streak).
With a slight thaw in the equity capital markets and stabilized oil prices, the next month looks to be the best chance MLPs have had in a while to string together back-to-back positive months for the first time since June 2014.
Winners & Losers
All 5 of the top 5 could be characterized as deep value MLPs that caught a bid this week. Within the bottom 5, there seemed to be some profit taking TLP and some of the MLPs that outperformed when oil was shooting higher like SDLP and RRMS.  PBFX dropped on its offering.
CNNX rejoined the top 5 with nearly 30% return so far this year.  NGL joined the bottom 5, replacing WPZ.
General Partner Holding Companies
General partners underperformed MLPs as a group, but with wide disparity among winners and losers.  TEGP performed well after the Rockies Express acquisition was announced, but there was no other company-specific news.  Natural gas prices probably helped EQGP outperform for the second straight week.  SEMG and ENLC underperformed for a second straight week, dragged down by oil prices.
News of the (MLP) World
This week we got the first equity offering from an MLP with a yield above 5% since September.  It was small and sold at a wide discount, but the deal was executed and traded up the following day.  In addition, a number of M&A transactions were announced from a wide range of MLPs in very different financial situations.  An upstream MLP announced an asset sale that helps liquidity and leverage, while a premium MLP funded an acquisition with mostly debt and cash.  Finally, there was more bankruptcy fallout news that impacted the sector.

  • PBF Logistics (PBFX) priced offering of 2.5mm units at $18.50/unit, raising $46.3mm in gross proceeds (press release)
    • Bought deal, priced at 8.05% discount to prior closing price, traded up 1.8% from pricing in the next session
    • Proceeds will be used to partially fund previously-announced $100mm acquisition of assets from PAA
  • Noble Midstream (NBLX) filed amended S-1 for MLP IPO, the first such filing for any MLP in 2016 (filing)
    • NBLX launched a roadshow for the IPO back in December, but did not price based on lack of demand and weaker than expected pricing
    • The filing has no pricing information and seems to be an effort to keep the document updated with the latest financial information rather than a pending IPO launch
    • NBLX projects $62.2mm in EBITDA for the next 12 months ending 3/31/17, up from 2015 EBITDA of $51.0mm and $40.0mm EBITDA for the 12 months ending 9/30/15

M&A / Growth

  • Tallgrass Development, LP announced acquisition of 25% interest in Rockies Express Pipeline LLC (REX) from Sempra Energy for $440mm (press release)
    • Tallgrass Development, affiliate of TEP and TEGP, will own 75% of the pipeline following the close of this transaction
    • No indication as to how much additional debt was being assumed in the transaction
    • Tallgrass originally purchased 50% of REX in 2012 as part of a larger $1.8bn transaction that included several other pipeline assets owned by KMI (press release)
    • This acquisition increases the pool of assets available to be sold down to TEP over time
  • Valero Energy (VLP) announced acquisition of McKee Services Terminal Business from Valero Energy (VLO) for $240mm (press release)
    • VLP expects EBITDA of $28mm from the assets, implying an 8.5x multiple, lower than previous 3 drop down acquisitions by VLP
    • VLP will finance the acquisition with $139mm of borrowings, $65mm in cash and $36mm worth of units issued to VLO
    • With the acquisition, VLP will enter a 10-year terminaling agreement with VLO that supports the EBITDA expectation
    • VLP reiterated 25% annual distribution growth in 2016 and 2017
    • VLP had guided to $1bn worth of drop-down acquisitions in 2016
  • Vanguard Natural Resources (VNR) announced sale of its natural gas, oil and NGL producing assets in the SCOOP/STACK area in Oklahoma to affiliate of Titanium Exploration Partners, LLC for $280mm (press release)
    • VNR plans to provide updated guidance upon closing the sale, which is expected to take place on or before 5/18/16
  • Kinder Morgan (KMI) stops work on $1bn Palmetto Pipeline (KMI website)
    • Georgia lawmakers approved a one-year moratorium on permits for petroleum pipelines in the state
    • The refined products pipeline is designed to stretch from South Carolina to Florida, passing through Georgia


  • Rhino Resource (RHNO) announced 1-for-10 reverse split on its common and subordinated units, effective April 19 (press release)
  • Southcross Holdings LP, the general partner of Southcross Energy Partners (SXE) filed prepackaged reorganization plan, SXE not included (press release)
  • BBEP announced borrowing base reduction from $1.8bn to $1.4bn (filing)

E&P MLP Post-Mortem
We haven’t dedicated much time to the E&P MLP subsector here lately.  The reason why is the group has become much less relevant to the overall MLP universe.  This iteration of the E&P MLP model has left a new generation of investors scarred, and it seems clear to us that mature E&P assets in a traditional, steady distribution MLP structure doesn’t work.
E&P MLPs survived the global financial crisis because the stress didn’t last long enough to overwhelm large hedge books, but when hedges roll at prices 50% lower and borrowing bases get reduced because the acreage is no longer viable, especially for PUD reserves.  E&P MLPs won’t return to their previous glory, but they may return in a variable distribution format that better matches the volatility of cash flows and financial positions that accompany relying on E&P assets.
The situation at Linn Energy (LINE), however, has become very interesting and has raised more issues regarding the myriad ways the often very good deferred tax vehicle that is the MLP can force large tax burden onto its owners.  LINE’s cancellation of debt causes gains that can lead investors to owe taxes on units that are nearly worthless.  LINE has offered its investors that opportunity to exchange units for shares in LinnCo, which helps them avoid the cancelation of debt gains, but qualifies as a sale of units, which triggers ordinary income recapture that for some long-time holders could be worse. The Wall Street Journal wrote an article on it this week.

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